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Just like you need a wallet to protect your cash and credit cards, you should also know where you’re going to store your crypto.
When you buy digital currency on a trading platform, or exchange, you may have the option to leave the “keys” to your coins within the account — that’s one form of storage. But you can also move them off the platform to a personal crypto wallet, which may be software connected to the Internet (a hot wallet) or a completely offline device (cold storage).
Here’s what you need to know about cryptocurrency wallets, and how to decide which storage option is right for you:
What is a Cryptocurrency Wallet?
Like a regular wallet stores physical currency when you’re not using it, a cryptocurrency wallet is a place to store your digital currency.
“Really all you need to transact in crypto is two things: your wallet address, which is also called your public key, and then your private key,” says Nicole DeCicco, founder of CryptoConsultz, a consulting practice for individuals and organizations learning about crypto and blockchain technology.
A public key is like your bank account number. You can share it with other people or institutions, so they can send money to you or take money from your account when you authorize it. These people usually view your public keys as a wallet address — a hashed, or more compressed, version of that public key.
But a private key is like your bank account password or the PIN to your debit card. “You would not want to give that to me because that would give me access to your account,” DeCicco says.
As a purely digital currency, crypto isn’t directly held within your wallet; instead, the wallet stores information about your public and private keys, which amount to your ownership stake of the crypto. Using these keys, you can send or receive cryptocurrency while keeping your private key encrypted.
Types of Crypto Wallets
Different crypto storage options can serve different purposes, depending on what you plan to do with your crypto. Long-term Bitcoin investors, for example, who plan to hold onto it for a period of time as a store of value may want the security of an offline cold storage wallet. Those more involved in actively transacting with crypto, on the other hand, may want the convenience and speed that an online hot wallet can offer.
These are sometimes called cold wallets or cold storage, and they store your keys completely offline on a device not connected to the Internet. Many popular cold wallet devices look similar to a USB drive. Sometimes paper wallets — wherein you print information about your public and private keys onto a sheet of paper — are even used as cold storage.
Crypto enthusiasts often see cold storage as the gold standard for protecting your digital assets. Because they’re offline, hardware wallets are the most difficult type of wallet to hack. But that doesn’t mean there aren’t still risks.
For one, hardware wallets can be easily lost or misplaced. How many times have you lost a USB drive with nothing more than documents on it before? That alone is inconvenient. But losing a device that holds the keys to your investments — which are unrecoverable once gone — can be a big financial blow.
Even hacking can still be a concern. If you do choose cold storage, DeCicco recommends buying a device directly from the manufacturer, rather than secondhand. If you buy from a third party, you could risk the device being tampered with by a hacker who may have bought it, compromised it, and repackaged it for sale.
These may also be called hot wallets. If you think of a hardware wallet like the billfold you might keep in your purse, you can think of a software wallet like your online bank account.
“They’re often connected with an exchange, they’re oftentimes user-friendly, and they’ve really opened up the space to a more mainstream market,” DeCicco says. “But there’s many risks to keeping your funds online.”
Hot wallets can take different forms. You may access one through the crypto exchange you use to buy your coins, download a software program to your computer desktop, or even use a smartphone app. But because each of these options leave your public and private keys connected to the Internet, you may face a higher risk of hacking than if you use cold storage.
Do You Need a Wallet?
Technically, you don’t have to keep your coins in cold storage or download a hot wallet program to your desktop. Many crypto exchanges allow you to store your cryptocurrency within a wallet on the exchange, and some people leave it at that.
But is it OK to keep your crypto within the wallet that an exchange like Coinbase or Kraken provides?
“Crypto purists will say hell no,” says Tyrone Ross, financial advisor and CEO of Onramp Invest, a crypto investment platform for financial advisors. But there’s a learning curve when it comes to crypto, and until you have a solid understanding of public and private keys, hot and cold storage, and other crypto security topics, it is OK. “Until you learn all of that, it’s OK to leave your coins at Coinbase, or Gemini, or whatever.”
The goal is to not rely on that option, he says, and eventually move your crypto onto your own form of storage, “but these are exchanges that have gone above and beyond for security and safekeeping.” Your crypto isn’t protected by any regulatory body like cash in a bank is, but in addition to security measures, many reputable exchanges — like Coinbase and Crypto.com — offer insurance coverage on crypto holdings and even use cold storage methods themselves. In the event your crypto was stolen by hackers or the exchange failed, that’s another added protection for your investment.
Still, the risk of hacking remains. Just last year, KuCoin (the fifth largest exchange by volume, according to CoinMarketcap) experienced a hack worth more than $200 million. Though users’ funds were recovered, it highlights the risk any exchange can carry — just like traditional financial institutions.
A hot wallet has a similar degree of security as your bank account, says Kiana Danial, author of “Cryptocurrency Investing for Dummies” and creator of @Investdiva on Instagram. Exchanges typically take their security practices seriously, and often have insurance to back up their security in case of an attack. But the tradeoff is the amount of control you have over your own cryptocurrency.
Danial equates it to your bank’s ability to simply freeze your account. And within a community built upon decentralization and a maxim of “not your keys, not your coins,” relying on a centralized entity (the exchange) to control the keys to your crypto can be viewed as a security risk in itself. DeCicco points to outages reported by account holders during the most recent dramatic dip in the crypto market as an example.
“Almost every exchange went down, right at the time when it’s so important that you do have the ability to buy or sell cryptocurrency,” she says. “You don’t always have that option if you’re keeping your funds in an exchange.”
How to Choose the Right Crypto Wallet
When choosing a storage option for your crypto, you should assess your risk tolerance and goals, as well as your knowledge level when it comes to crypto. If you want to hold your coins long-term and don’t plan to do any trading, cold storage might make the most sense. But if you’re a beginner and generally careful about the amount you invest, you may prefer the simplicity of being able to buy and keep your coins within an exchange.
“We advise people to go to the source and make their own decision about how they’re going to engage and where, after they’ve done some homework,” says Eva Velasquez, president and CEO of the Identity Theft Resource Center. Don’t rely on options you see advertised or that you get solicitations for in your inbox. “After they’ve done some looking into, is this a legitimate exchange, are these real companies that are offering the storage options?”
When it comes to specific options, it’s smart to stick to the same rule of thumb as choosing a coin to invest in or an exchange to trade on — the more mainstream, popular options are usually those with less risk.
“I put a lot of weight into the longevity of the platform or the device,” DeCicco says. “You could have holes in the security of the software, and that’s where hackers can get in. If you have a wallet that’s been time-tested, it’s more reliable that their security team is keeping up on the latest in their security practices.”
Personal Account Security
Like any type of online account, the active security measures you take can make a big difference in keeping your crypto safe, too.
“If you aren’t aware of and engaging in best practices for just basic good cyber hygiene,” Velasquez says, pointing to practices like updating devices, managing network security, and using multiple passwords, “you may want to consider practicing that first before you decide to dive into something new like getting involved in crypto.”
Here are just a few things to keep in mind:
- If your wallet runs on software, update frequently and don’t keep using old versions of the software.
- Opt into two-factor authentication, and make sure any exchange or hot wallet program you use offers that as an option.
- Don’t share your private key with anyone, just like you wouldn’t share your Social Security number or your debit card PIN.
- Maintain strong passwords that you update regularly, and don’t use the same password for multiple accounts.
“We hear a lot about being hacked,” DeCicco says. But even though hacking is a real risk, “I work with just as many clients every day that have been their own worst enemy.”